Economic Consequences of NAFTA

by Don Boudreaux on March 14, 2007

in Trade

Economist Dominick Salvatore recently measured the economic consequences of NAFTA.  Here’s his conclusion:

The economic effects of NAFTA on Mexico have been discussed and measured mostly in terms of their effect on employment on both sides of the border and by the increase in Mexico-US trade and investments, before and after NAFTA. These are not the appropriate ways to measure the effects of a free trade area on a member state. The theoretically correct way of measuring the economic effects of a FTA on a member nation is through its effects on trade, investments, competition and efficiency. It is though these effects that the growth and employment in the nation are affected. To measure the direct effects of a FTA on member nations requires using a counterfactual simulation. That is, comparing trade, investments, competition, and efficiency in general and, through them, their effect growth and employment in the nation, with and without the FTA.  In the case of NAFTA, the benefits flowing to Mexico seem to have resulted more from the general liberalization of trade and investments than directly from NAFTA, as such. That is, the general liberalization of trade and investments that accompanied NAFTA led to a general increase in Mexican exports and inflows of FDI, which increased specialization, competition, productivity and efficiency in Mexico. But the increase in total Mexican exports and FDI inflows from the rest of the world was as large or larger than that from the United States. Furthermore, most of the (indirect) benefits that Mexico received from NAFTA occurred in the years immediately preceding the creation of NAFTA rather than in the years soon after its creation. Mexico was unable to capture more of the potential benefits from NAFTA or for a longer period of time because of the economic crisis that afflicted Mexico in 1994-1995, the slowdown of U.S. growth in 2000 and recession in 2001, increased competition from China, but most importantly because Mexico failed to adequately restructure and liberalize its economy and improve the education and training of its labor force.

The implementation of NAFTA benefited the United States by increasing  competition in product and resource markets, as well as by lowering the prices of  many commodities to U.S. consumers. Because the U.S. economy is so much  larger than Mexico’s, however, U.S. gains from NAFTA as a proportion of its  GDP were much smaller. Canada was the least affected by NAFTA because  Canada had already negotiated a free trade agreement with the United States in  1988, and so most of its economic effects had already taken place by the time NAFTA came into effect in 1994.


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